MASTER OF BUSINESS DEGREE PROGRAMME

Department of Accountancy
University of Kelaniya

G.M. Mudith Sujeewa

MBACC 51044 - Management Accounting

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Chapter

1
Introduction to
Managerial Accounting
and Cost Concepts

Management Accounting and

Financial Accounting
Management accounting
provides information
for managers of an
organization who
direct and control
its operations.

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Financial accounting
provides information
to stockholders,
creditors and others
who are outside
the organization.

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Work of Management

Planning

Directing and
Motivating

Controlling

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Planning and Control Cycle

Formulating Long-and
Short-Term Plans
(Planning)

Comparing Actual
to
Planned Performance
(Controlling)

Decision
Making

Begin

Implementing
the Plans
(Directing and
Motivating)

Measuring
Performance
(Controlling)
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Differences Between Financial and

Managerial Accounting
Financial
Accounting

Management
Accounting

External persons who

make financial decisions

Managers who plan for

and control an organization

Historical perspective

Future emphasis

3. Verifiability
versus relevance

Emphasis on
verifiability

Emphasis on relevance
for planning and control

4. Precision versus
timeliness

Emphasis on
precision

Emphasis on
timeliness

5. Subject

Primary focus is on
the whole organization

Focuses on segments
of an organization

6. Requirements

Must follow GAAP

and prescribed formats

Need not follow GAAP

or any prescribed format

1. Users
2. Time focus

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Comparing Merchandising and

Manufacturing Activities
Merchandisers . . .

Manufacturers . . .

Buy finished goods.

Buy raw materials.

Sell finished goods.

Produce and sell

finished goods.

MegaLoMart

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Manufacturing Costs
Direct
Materials

Direct
Labor

Manufacturing
Overhead

The Product

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Direct Materials
Those materials that become an integral part
of the product and that can be conveniently
traced directly to it.

Example: A radio installed in an automobile

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Direct Labor
Those labor costs that can be easily traced to
individual units of product.

Example: Wages paid to automobile assembly workers

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Manufacturing Overhead
Manufacturing costs that cannot be traced
directly to specific units produced.
Examples: Indirect labor and indirect materials
Wages paid to employees
who are not directly
involved in production
work.
Examples: maintenance
workers, janitors and
security guards.
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Materials used to support

the production process.
Examples: lubricants and
cleaning supplies used in the
automobile assembly plant.

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Classifications of Costs
Manufacturing costs are often
classified as follows:
Direct
Material

Direct
Labor

Prime
Cost

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Manufacturing
Overhead

Conversion
Cost
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Nonmanufacturing Costs
Marketing and selling costs . . .
Costs necessary to get the order and deliver the

product.

Administrative costs . . .
All executive, organizational, and clerical costs.

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Quick Check
Which of the following costs would be
considered manufacturing overhead at Boeing?
(More than one answer may be correct.)
A. Depreciation on factory forklift trucks.
B. Sales commissions.
C. The cost of a flight recorder in a Boeing 767.
D. The wages of a production shift supervisor.

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Product Costs Versus Period Costs

Product costs include
direct materials, direct
labor, and
manufacturing
overhead.
Inventory

Cost of Good Sold

Period costs are not

included in product
costs. They are
expensed on the
income statement.
Expense

Sale

Balance
Sheet
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Income
Statement
16

Income
Statement
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Quick Check
Which of the following costs would be
considered a period rather than a product cost
in a manufacturing company?
A. Manufacturing equipment depreciation.
B. Property taxes on corporate headquarters.
C. Direct materials costs.
D. Electrical costs to light the production
facility.

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Balance Sheet
Merchandiser

Manufacturer

Current assets

Current Assets

Cash

Cash

Receivables

Receivables

Prepaid expenses

Prepaid Expenses

Merchandise inventory

Inventories
Raw Materials
Work in Process
Finished Goods

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Balance Sheet
Merchandiser

Manufacturer

Current assets

Current Assets

Cash

Cash

Receivables

Receivables
Materials
waiting to

Prepaid expenses

be processed.
Prepaid
Expenses

Merchandise
inventory
Partially complete

Inventories
Raw Materials
Work in Process
Finished Goods

products some
material, labor, or
overhead has been
added.

Completed products
awaiting sale.
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The Income Statement

Cost of goods sold for manufacturers differs only
slightly from cost of goods sold for merchandisers.
Merchandising Company
Cost of goods sold:
Beg. merchandise
inventory
$ 14,200
+ Purchases
234,150
Goods available
for sale
$ 248,350
- Ending
merchandise
inventory
(12,100)
= Cost of goods
sold
$ 236,250

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Manufacturing Company
Cost of goods sold:
Beg. finished
goods inv.
+ Cost of goods
manufactured
Goods available
for sale
- Ending
finished goods
inventory
= Cost of goods
sold

$ 14,200
234,150
$248,350

(12,100)
$236,250

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Manufacturing Cost Flows

Costs

Balance Sheet
Inventories

Material Purchases

Raw Materials

Direct Labor

Work in
Process

Manufacturing
Overhead

Selling and
Administrative
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Finished
Goods

Period Costs
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Income
Statement
Expenses

Cost of
Goods
Sold
Selling and
Administrative
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Quick Check
Which of the following transactions would
immediately result in an expense? (There may
be more than one correct answer.)
A. Work in process is completed.
B. Finished goods are sold.
C. Raw materials are placed into production.
D. Administrative salaries are accrued and
paid.

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Inventory Flows
Beginning
balance
$$

Available
$$$$$

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Additions
$$$

_ Withdrawals
$$$

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Available
$$$$$

Ending
balance
$$

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Quick Check
If your bank balance at the beginning of the
month was $1,000, you deposited $100 during
the month, and withdrew $300 during the
month, what would be the balance at the end of
the month?
A. $1,000.
B. $ 800.
C. $1,200.
D. $ 200.
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Product Costs - A Closer Look

Raw Materials

Manufacturing
Costs

Work
In Process

Beginning raw
materials inventory

Beginning inventory
is the inventory
carried over from
the prior period.

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Product Costs - A Closer Look

Raw Materials

+
=

Beginning raw
materials inventory
Raw materials
purchased
Raw materials
available for use
in production
Ending raw materials
inventory
Raw materials used
in production

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Manufacturing
Costs

Work
In Process

Direct materials

As items are removed from raw

materials inventory and placed into
the production process, they are
called direct materials.
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Quick Check
Beginning raw materials inventory was $32,000.
During the month, $276,000 of raw material was
purchased. A count at the end of the month
revealed that $28,000 of raw material was still
present. What is the cost of direct material
used?
A.
$276,000
B.
$272,000
C.
$280,000
D.
$ 2,000
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Product Costs - A Closer Look

Raw Materials

+
=

Beginning raw
materials inventory
Raw materials
purchased
Raw materials
available for use
in production
Ending raw materials
inventory
Raw materials used
in production

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Manufacturing
Costs

Work
In Process

Direct materials
+ Direct labor
+ Mfg. overhead
= Total manufacturing
costs

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Product Costs - A Closer Look

Raw Materials

+
=

Beginning raw
materials inventory
Raw materials
purchased
Raw materials
available for use
in production
Ending raw materials
inventory
Raw materials used
in production

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Manufacturing
Costs
Direct materials
+ Direct labor
+ Mfg. overhead
= Total manufacturing
costs

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Work
In Process

Conversion
costs are costs
incurred to
convert the
direct material
into a finished
product.

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Quick Check
Direct materials used in production totaled
$280,000. Direct labor was $375,000 and
factory overhead was $180,000. What were
total manufacturing costs incurred for the
month?
A.
$555,000
B.
$835,000
C.
$655,000
D.
Cannot be determined.
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Product Costs - A Closer Look

Raw Materials

+
=

Beginning raw
materials inventory
Raw materials
purchased
Raw materials
available for use
in production
Ending raw materials
inventory
Raw materials used
in production

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Manufacturing
Costs
Direct materials
+ Direct labor
+ Mfg. overhead
= Total manufacturing
costs

Work
In Process
Beginning work in
process inventory
+ Total manufacturing
costs
= Total work in
process for the
period

All manufacturing costs incurred

during the period are added to the
beginning balance of work in
process.
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Product Costs - A Closer Look

Raw Materials
Beginning raw
materials inventory
+ Raw materials
purchased
= Raw materials
available for use
in production

Manufacturing
Costs

Work
In Process

Direct materials
+ Direct labor
+ Mfg. overhead
= Total manufacturing
costs

Beginning work in
process inventory
Total manufacturing
costs
Total work in
process for the
period
Ending work in
process inventory
Cost of goods
manufactured.

+
=

Costs associated with the goods that

are completed during the period are
transferred to finished goods
inventory.
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Quick Check
Beginning work in process was $125,000.
Manufacturing costs incurred for the month
were $835,000. There were $200,000 of
partially finished goods remaining in work in
process inventory at the end of the month.
What was the cost of goods manufactured
during the month?
A.
$1,160,000
B.
$ 910,000
C.
$ 760,000
D.
Cannot be determined.
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Product Costs - A Closer Look

Work
In Process

+
=

Finished Goods

Beginning work in
process inventory
Manufacturing costs
for the period
Total work in process
for the period
Ending work in
process inventory
Cost of goods
manufactured

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Beginning finished
goods inventory
+ Cost of goods
manufactured
= Cost of goods
available for sale
- Ending finished
goods inventory
Cost of goods
sold

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Quick Check
Beginning finished goods inventory was
$130,000. The cost of goods manufactured for
the month was $760,000. And the ending
finished goods inventory was $150,000. What
was the cost of goods sold for the month?
A. $ 20,000.
B. $740,000.
C. $780,000.
D. $760,000.
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Cost Classifications for Predicting

Cost Behavior
How a cost will react to
changes in the level of
business activity.
Total variable costs

change when activity

changes.
Total fixed costs

remain unchanged
when activity changes.

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Total Variable Cost

Total Long Distance

Telephone Bill

Your total long distance telephone bill is

based on how many minutes you talk.

Minutes Talked
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Variable Cost Per Unit

Per Minute
Telephone Charge

The cost per long distance minute talked is

constant. For example, 10 cents per minute.

Minutes Talked
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Total Fixed Cost

Monthly Basic
Telephone Bill

Your monthly basic telephone bill probably

does not change when you make more local
calls.

Number of Local Calls

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Fixed Cost Per Unit

Monthly Basic Telephone

Bill per Local Call

The average cost per local call decreases as

more local calls are made.

Number of Local Calls

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Cost Classifications for Predicting

Cost Behavior
Behavior of Cost (within the relevant range)
Cost

In Total

Per Unit

Variable

Total variable cost changes

as activity level changes.

Variable cost per unit remains

the same over wide ranges
of activity.

Fixed

Total fixed cost remains

the same even when the
activity level changes.

Fixed cost per unit goes

down as activity level goes up.

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Quick Check
Which of the following costs would be variable
with respect to the number of cones sold at a
Baskins & Robbins shop? (There may be more
than one correct answer.)
A. The cost of lighting the store.
B. The wages of the store manager.
C. The cost of ice cream.
D. The cost of napkins for customers.

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Quick Check
Which of the following costs would be variable
with respect to the number of people who buy a
ticket for a show at a movie theater? (There
may be more than one correct answer.)
A. The cost of renting the film.
B. Royalties on ticket sales.
C. Wage and salary costs of theater
employees.
D. The cost of cleaning up after the show.
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Direct Costs and Indirect Costs

Direct costs

Indirect costs

Costs that can be

Costs cannot be easily

easily and conveniently

traced to a unit of
product or other cost
objective.
Examples: direct

material and direct labor

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and conveniently traced

to a unit of product or
other cost object.
Example:

manufacturing
overhead

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Differential Costs and Revenues

Costs and revenues that differ among
alternatives.
Example: You have a job paying $1,500 per month in
your hometown. You have a job offer in a neighboring
city that pays $2,000 per month. The commuting cost
to the city is $300 per month.

Differential revenue is:

$2,000 $1,500 = $500
Differential cost is:
$300
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Quick Check
Suppose you are trying to decide whether to
drive or take the train to Portland to attend a
concert. You have ample cash to do either, but
you dont want to waste money needlessly. Is
the cost of the pizza you ate last night relevant
in this decision? In other words, should the cost
of the pizza affect the decision of whether you
drive or take the train to Portland?
A. Yes, the cost of the pizza is relevant.
B. No, the cost of the pizza is not relevant.
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Quick Check
Suppose you are trying to decide whether to
drive or take the train to Portland to attend a
concert. You have ample cash to do either, but
you dont want to waste money needlessly. Is
the cost of the train ticket relevant in this
decision? In other words, should the cost of the
train ticket affect the decision of whether you
drive or take the train to Portland?
A. Yes, the cost of the train ticket is relevant.
B. No, the cost of the train ticket is not relevant.
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Note
Every decision involves a choice from

among at least two alternatives.

Only those costs and benefits that differ
between alternatives (i.E., Differential
costs and benefits) are relevant in a
decision. All other costs and benefits can
and should be ignored.

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Quick Check
Suppose you are trying to decide whether to
drive or take the train to Portland to attend a
concert. You have ample cash to do either, but
you dont want to waste money needlessly. Is
the annual cost of licensing your car relevant in
this decision?
A. Yes, the licensing cost is relevant.
B. No, the licensing cost is not relevant.

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Quick Check
Suppose you are trying to decide whether to
drive or take the train to Portland to attend a
concert. You have ample cash to do either, but
you dont want to waste money needlessly. Is
the depreciation on your car relevant in this
decision?
A. Yes, the depreciation is relevant.
B. No, the depreciation is not relevant.

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Opportunity Costs
The potential benefit that is
given up when one alternative
is selected over another.

Example: If you were

not attending college,
you could be earning
$15,000 per year.
Your opportunity cost
of attending college for
one year is $15,000.
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Sunk Costs
Sunk costs cannot be changed by any decision.
They are not differential costs and should be
ignored when making decisions.
Example: You bought an automobile that cost
$10,000 two years ago. The $10,000 cost is
sunk because whether you drive it, park it, trade
it, or sell it, you cannot change the $10,000 cost.

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Quick Check
Suppose that your car could be sold now for
$5,000. Is this a sunk cost?
A. Yes, it is a sunk cost.
B. No, it is not a sunk cost.

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